Avoid XVIX—It&8217;s Going Nowhere

Updated: Dec 1st, 2012 | |

In December 2010 UBS came out with XVIX—an ETN that holds a long position in medium term volatility (equivalent to VXZ), and short a 50% position in short term volatility (equivalent to VXX).  See Volatilty Tickers for the full set of available ETNs.   XVIX&8217;s strategy was to take advantage of the historical situation (2004 to 2009) where short term futures were hugely eroded by contango and mid term futures could be used to protect the position from volatility spike.    The product backtested great, showing returns of 24% and 55% percent in 2009 and 2010 respectively.

Since its introduction at $25 XVIX has gone no where, just some drifting around, mostly down.

XVIX compared to VXX & VXZ, click to enlarge

The primary reason for XVIX&8217;s poor performance is the  term structure change in medium term volatility futures that occurred in 2010.   In the graph below, negative percentages indicate that the futures are in contango, positive numbers indicate backwardation.

Contango on medium term volatility futures

Even though VIX in the Summer of 2011 dropped below 15 and VXX dropped almost to 20 the medium term futures stayed in contango.    The next chart adds the short term contango over the same time frame scaled so that the maximiums / minimums are about the same.  The contango / backwardation on the short term 1 / 2 month futures used to be about 5X larger than the medium term equivalent—now it only about 2X larger.

Medium term futures contango with normalized short term contango, click to enlarge

While the behavior of short term contango has stayed about since the beginning of the bull market in March 2009 the contango of the medium term futures has tended to increase, with the average value in 2011 being more negative than 2010. This looks like a structural shift in the term structure and it isn&8217;t good news for XVIX. Unless UBS amends its mix of medium and short term futures, it looks like XVIX will be a long term loser.

If you are interested in downloading the data used for this analysis, see this post.

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Saturday, December 1st, 2012 |
  • Steve

    Thanks for the post. I am curious why you think the shift in the medium term futures will persist and make XVIX a long-term loser rather than revert back to the term structure of earlier years.

  • Hi Steve,
    I think the change in the term structure of the medium term volatility futures is analogous to the appearance of the volatility smile in options after the 1987 crash (http://ederman.com/new/docs/euronext-volatility_smile.pdf). The 2008/2009 crash showed investors that not only our stock market, but the entire world financial system is not particularly resistant to crashes. You can view volatility futures as crash insurance, and the longer you want that insurance the more you will have to pay for it &8212; hence contango.

    &8212; Vance

  • Charles

    Hi Vance,
    I am curious to see what the long-term performance (backtested) of XVIX vs XVZ looks like ? Actual performance seems pretty close since the official launch of XVZ, except that XVZ is more volatile ?
    Thank you

  • Hi Charles,
    I will put this backtest on my to do list, but frankly it might take a while. Let me know if you are in a hurry, and maybe we can work something out.

    &8212; Vance